Capital Raising Education Series: Part 7 | Featuring: Richey May Tax Team (Sean Sawey and Dan Flores)
What this video covers: In-kind contributions, where an investor transfers appreciated securities directly into your fund rather than contributing cash, are an underused but powerful capital raising tool. This session explains the mechanics, the tax implications, and what you need to track before you accept them.
How it Works
Generally, an investor can contribute appreciated assets to a partnership without triggering a taxable event at the time of contribution. The built-in gain, the difference between the asset’s original cost basis and its fair market value at the date of contribution, is recognized when the fund ultimately sells the position. The contributing investor bears the tax on that gain when it is realized.
This is attractive to investors holding highly appreciated positions who want to diversify, deploy capital into your fund, and defer a large tax liability.
When Does it Become Taxable?
Gain recognition can be triggered earlier if:
- The contributed portfolio fails the diversification test
- The contributing investor redeems cash from the fund within two years of contribution
- The contributed securities are distributed to a different partner within seven years
These rules exist specifically to prevent investors from swapping securities without recognizing gain.
The Diversification Test
To qualify for tax-deferred treatment, no single issuer can represent more than 25% of the total value of the contributed assets, and the securities of five or fewer issuers cannot represent more than 50% of the total. This is the fund manager’s responsibility to confirm before accepting the contribution.
What You Need to Track (For Every Tax Lot)
- Original purchase date
- Original cost basis
- Fair market value at the date of contribution
- Built-in gain (the difference between the two)
- Quantity of shares
- Issuer name or ticker
This information must be maintained separately from the fund’s standard books. The holding period carries over: the original purchase date, not the contribution date, determines whether gain is long-term or short-term.
Best Practices
- Always dispose of a full tax lot rather than selling partial shares. Partial sales make tracking exponentially more complex
- If you intend to sell all contributed positions in year one, advise the investor upfront. It may be more practical for them to sell and contribute cash
- Inform your fund administrator well before accepting anything, the additional tracking creates real cost
- Align your fund admin, CPA firm, prime broker, and the investor’s broker before agreeing to terms
- Note: these guidelines apply to non-digital assets. Digital asset in-kind contributions present additional unique challenges
If this video raised questions about how any of these topics apply to your fund, Steve Vlasak is happy to help. You can contact Steve directly at svlasak@richeymay.com.
Dive into the other topics in this Capital Raising Education series:
- Part 1: Rule 506(b) vs. 506(c) — Which One Is Right for You?
- Part 2: Allocating Money and the Due Diligence Process
- Part 3: Considerations for IRA Investment into Fund Structures
- Part 4: What to Do With Investor Contacts — A Look Into CRM
- Part 5: Updating Your Marketing Toolkit
- Part 6: The Perfect Pitchbook
- Part 8: Rule 506(b) vs. 506(c) — A Legal Deep Dive
- Part 9: The Human Edge in Capital Raising
